1 Economics Marshall High School Mr. Cline Unit Two DA
2 If you were running a business, what would you do if you discovered that customers were suddenly willing to pay twice as much for your product? If you were like most entrepreneurs, you would try to produce more in order to take advantage of the higher prices. Even if you used the higher prices as a way to work fewer hours while earning the same income, you could be sure that someone else would jump into the market and start selling the same good Supply is the amount of goods available. How do producers decide how much to supply at a specific price? According to the Law of Supply, the higher the price, the larger the quantity produced. Economists use the term quantity supplied to describe how much of a good is offered for sale at a specific price.
3 As the price of a good rises, existing firms will produce more in order to earn additional revenue. At the same time, new firms will have an incentive to enter the market to earn a profit for themselves. If the price of a good falls, some firms will produce less, and others might drop out of the market If I own a pizzeria, and the demand price goes up, I will try to make more pizza at that price to increase my profits. Similarly, if the price of pizzas goes down, the pizzeria will earn less profit per slice or even lose money. As a result I would choose to produce less pizza, or perhaps more of other products such as hot wings or calzones and sandwiches. In both cases the search for profit would be what drives my decision as a supplier. When the price goes up, I am incentivized to take the chance to make more money and work harder to make more pizza. When the price falls, I am discouraged from making as much pizza as before.
4 The Supply Schedule and Supply Curve The supply schedule is just like the demand schedule in that it shows the relationship between the price and quantity supplied for a specific good. Like the demand schedule, the supply schedule lists supply for a very specific set of conditions when graphed. When the data points in the supply schedule are graphed, they create a supply curve. Again, a supply curve is almost exactly like a demand curve. The variables along the supply curve are only accurate ceteris parabis. The difference in the supply curve and the demand curve is that the vertical axis now represents the quantity supplied, not the quantity demanded. The key feature of the supply curve is that it always rises from left to right because of the Law of Supply.
5 Profit From Each Pencil Purchased # of Pencils Willing to Supply $ $ $ $ $ $ $ $ $ $ $ $0.01 1
7 Elasticity of Supply Elasticity of Supply is based on the same concepts as the Elasticity of Demand, except that in this case it defines how each supplier will respond to a change in price by how much he produces. The labels elastic, inelastic and unitary still apply. What determines whether the supply of a good will be elastic or inelastic? The key factor is time. In the short run a firm cannot easily change its output level, so supply is inelastic. In the long run, firms are more flexible, so supply is more elastic. Elasticity of Supply in the Short Run An apple orchard is a one example of a business that has difficulty adjusting to a change in price in the short term. Apple trees take several years to mature and grow fruit.
8 Elasticity of Supply Elasticity of Supply in the Short Run If the price of apples goes up, an apple grower can buy and plant more trees, but he will have to wait several years for his investment to pay off. In the short term, the grower could take smaller steps to increase output. For example, he could use a more effective pesticide. While this step may increase his output somewhat, it would probably not increase the number of apples by very much. Economists would say that this supply is inelastic, because he cannnot easily change his output. The same factors that prevent the owner from expanding his supply will also prevent new growers from entering the market and supplying apples in the short term.
9 Elasticity of Supply Elasticity of Supply in the Short Run In the short run, supply is inelastic whether the price increases or decreases. If the price of a barrel of apples falls, the orchard owner has few ways to cut his supply. He invested years ago in land and trees, and his orchard will provide apples no matter what the price is. Even if the price drops drastically, the orchard owner will probably pick and sell as many apples as before. The orchard owner s competition has also invested heavily in land and trees and will not drop out of the market if they can survive. In this case, supply is inelastic whether prices rise or fall. While apple orchards illustrate a business in which supply is inelastic, other businesses benefit from more elastic supply.
10 Elasticity of Supply Elasticity of Supply in the Short Run For example, a business that provides haircuts is highly elastic. Unlike apples, the supply of haircuts is easily expanded or reduced. If the price rises, barbershops and salons can hire workers quickly. In addition, new barber shops and salons will open, and existing businesses might stay open later in the evening. This means that a small increase in price will cause a large increase in quantity supplied, even in the short term. If the price of a haircut drops, some barbers will close their shops earlier in the day, and others will leave the market for jobs elsewhere, and quantity supplied will fall quickly. Because haircut suppliers can quickly change their operations, the supply of haircuts is elastic.
11 Elasticity of Supply Elasticity of Supply in the Long Run Like demand, supply can become more elastic over time. Consider the example of the apple orchard owner who could not increase his output much when the price of apples rose. Over time he could plant more trees to increase his supply of apples. These changes will become more effective over time as trees grow and bear fruit. After several years, he will be able to sell many more apples at the high market price. If the price drops and stays low for several years, apple growers who survived the first two to three years of losses might decide to give up and do something else. Given five years to respond instead of six weeks, the supply of apples will be far more elastic.
12 Elasticity of Supply Elasticity of Supply in the Long Run Just like demand, supply becomes more elastic if the supplier has a long time to respond to a price change. Changes in Supply Just as several factors can affect demand at all price levels, a separate set of factors can affect supply, and shift the supply curve either to the left or to the right. Input Costs Any change in the cost of an ingredient necessary to create a good, or its input, such as raw materials, labor or machinery, will affect supply. A rise in the cost of an input will cause a fall in supply at all price levels because the good has become more expensive to produce.
13 Changes in Supply Just as several factors can affect demand at all price levels, a separate set of factors can affect supply, and shift the supply curve either to the left or to the right. Input Costs On the other hand, a fall in the cost of an input will cause an increase in supply at all price levels. The Effect of Rising Costs When a supplier decides how much to produce, he sets that level at the most profitable amount, where price is equal to marginal cost. Marginal cost is the additional cost of producing one more unit, and consists of; Fixed Costs which are costs that do not change no matter how much of a good is produced.
14 Changes in Supply The Effect of Rising Costs Fixed Costs which are costs that do not change no matter how much of a good is produced. Most fixed costs involve the production facility, the cost of building and equipping a factory, office, store or restaurant. Examples of fixed costs include rent, machinery, repairs, property taxes on a factory, and the salaries of workers who keep the business running even when production temporarily stops. Variable Costs are costs that rise or fall depending on the quantity produced